SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K/A
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Date of Report (Date of earliest event reported) September 30, 1998
------------------------------
SPECTRUM LABORATORIES, INC.
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(Exact name of Registrant as specified in its charter)
Delaware 0-9478 95-4718363
- --------------------------------------------------------------------------------
(State or other jurisdiction of (Commission File Number) (IRS Employer
incorporation or organization) Identification No.)
23022 La Cadena Drive, Laguna Hills, California 92653
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (949) 581-3500
----------------
Not Applicable
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(Former name or former address, if changed since last report)
Item 7. Financial Statements and Exhibits
The undersigned registrant hereby amends the following items, financial
statements, exhibits or other portions of its current report dated
October 30, 1998, on Form 8-K as set forth in the following pages
attached hereto.
(a) Financial Statements of Spectrum Medical Industries, Inc.
(1) Audited Consolidated Financial Statements of Spectrum Medical
Industries, Inc. and Subsidiaries as of January 3, 1998 and December
31, 1996 and for each year then ended
(2) Unaudited Consolidated Balance Sheet as of October 3, 1998
(3) Unaudited Consolidated Statements of Operations for the nine months
ended October 3, 1998 and September 30, 1997
(4) Unaudited Consolidated Statement of Shareholders' Equity for the
period January 4, 1998 through October 3, 1998
(5) Unaudited Consolidated Statements of Cash Flows for the nine months
ended October 3, 1998 and September 30, 1997
(b) Pro Forma Financial Information of Spectrum Medical Industries, Inc. and
Spectrum Laboratories, Inc.
(1) Unaudited Pro Forma Consolidated Balance Sheets as of October 3, 1998
(2) Unaudited Pro Forma Consolidated Statements of Operations for the
years ended January 3, 1998 and December 31, 1996 and nine months
ended October 3, 1998 and September 30, 1997
2
Spectrum Medical Industries, Inc. and Subsidiaries
Consolidated Balance Sheet
As of October 3, 1998
(In thousands)
(Unaudited)
ASSETS
Current Assets:
Cash and cash equivalents $ 611
Accounts receivable 1,377
Inventories 1,674
Prepaid expenses 104
------------
Total current assets 3,766
Advances to principal shareholder 101
Property and equipment, net 2,245
Deferred income taxes 377
Goodwill 2,767
Other assets 252
------------
Total assets $ 9,508
============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 920
Accrued expenses and other current liabilities 822
Current portion of long-term debt 1,852
------------
Total current liabilities 3,594
Long-term debt, less current portion 1,061
Minority interest 3,199
Shareholders' Equity:
Common stock 36
Additional paid-in capital 395
Retained earnings 1,239
Unrealized loss on foreign currency translations (16)
------------
Total shareholders' equity 1,654
------------
Total liabilities and shareholders' equity $ 9,508
============
See notes to unaudited consolidated financial statements.
3
Spectrum Medical Industries, Inc. and Subsidiaries
Consolidated Statements of Operations
(In thousands, except per share amounts)
(Unaudited)
Nine months ended
------------------------------
Oct. 3, Sep. 30,
1998 1997
Net sales $ 9,144 $ 10,224
Costs and expenses:
Cost of sales 4,697 5,320
Selling 1,378 1,414
General and administrative 2,413 2,853
Research and development 601 667
Other expense, primarily interest 218 284
------------ ------------
Total costs and expenses 9,307 10,538
Gain on sale of product line 768
------------ ------------
(Loss) income before minority interest in loss (income) of
subsidiaries and provision for income taxes (163) 454
Minority interest in loss (income) of subsidiaries 206 (32)
------------ ------------
Income before provision for income taxes 43 422
Provision for income taxes 27 21
------------ ------------
Net income $ 16 $ 401
============ ============
Basic and diluted net income per common share $ .44 $ 11.14
============ ============
Basic and diluted weighted average common shares outstanding 36 36
============ ============
See notes to unaudited consolidated financial statements.
4
Spectrum Medical Industries, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Operations
(In thousands)
(Unaudited)
Nine months ended
-------------------------------
Oct. 3, Sep. 30,
1998 1997
Net income $ 16 $ 401
Other comprehensive income:
Unrealized gain (loss) on foreign currency translation 23 (8)
------------ ------------
Comprehensive income $ 39 $ 393
============ ============
See notes to unaudited consolidated financial statements.
5
Spectrum Medical Industries, Inc. and Subsidiaries
Consolidated Statement of Shareholders' Equity
Nine Months Ended October 3, 1998
(In thousands)
(Unaudited)
Unrealized
loss on
Common stock Additional foreign
------------------------ paid-in Retained currency
Shares Amount capital earnings translation Total
---------- ------------ --------------- ------------- --------------- -------------
Balance, January 4, 1998 36 $ 36 $ 322 $ 2,187 $ (39) $ 2,506
Net income 16 16
Foreign currency translation gain 23 23
Distributions to shareholders 73 (964) (891)
---------- ------------ --------------- ------------- --------------- -------------
Balance, October 3, 1998 36 $ 36 $ 395 $ 1,239 $ (16) $ 1,654
========== ============ =============== ============= =============== =============
See notes to unaudited consolidated financial statements.
6
Spectrum Medical Industries, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
Nine months ended
---------------------------------
Oct. 3, Sep. 30,
1998 1997
Cash Flows From Operating Activities:
Net income $ 16 $ 401
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 495 455
Gain on sale of product line (768)
Minority interest in loss (income) of subsidiary (205) 32
Change in assets and liabilities:
Decrease (increase) in accounts receivable 222 (87)
(Increase) decrease in inventories (161) 520
Decrease (increase) in prepaid expenses 62 (28)
Decrease in other assets 16
Decrease in accounts payable and accrued and other liabilities (2) (373)
Decrease in due to affiliates (15)
Other 23 (7)
------------- ------------
Net cash provided by operating activities 450 146
------------- ------------
Cash Flows From Investing Activities:
Acquisitions of property and equipment (344) (172)
Advances from principal shareholder 325
Increase in other assets (106)
Proceeds from sale of product line 969
------------- ------------
Net cash (used in) provided by investing activities (125) 797
------------- ------------
Cash Flows From Financing Activities:
Proceeds from issuance of stock of affiliate 500
Proceeds from issuance of debt 275 3,915
Principal payments of debt (733) (4,249)
Distributions to shareholders (891) (407)
------------- ------------
Net cash used in financing activities (849) (741)
------------- ------------
(Decrease) increase in cash and cash equivalents (524) 202
Cash and cash equivalents, beginning of period 1,135 605
------------- ------------
Cash and cash equivalents, end of period $ 611 $ 807
------------- ------------
See notes to unaudited consolidated financial statements.
7
Spectrum Medical Industries, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 1 Basis of Presentation
The unaudited interim financial information presented herein
as of October 3, 1998 and for the periods ended October 3,
1998 and September 30, 1997 should be read in conjunction with
the audited financial statements of Spectrum Medical
Industries, Inc. and Subsidiaries as of and for the years
ended January 3, 1998 and December 31, 1996 presented
elsewhere herein. This interim financial information reflects
all adjustments which are, in the opinion of management,
necessary for a fair presentation for the periods presented.
Such adjustments are of a normal recurring nature. The
financial information is not intended to be a complete
presentation in accordance with generally accepted accounting
principles. Interim financial statements are not necessarily
indicative of the results the Company will incur for the year.
Note 2 Inventories
Inventories consist of the following at October 3, 1998 (in
thousands):
Raw materials $ 1,449
Work-in-process 112
Finished goods 633
------------
2,194
Reserve for obsolescence (520)
------------
Total $ 1,674
============
8
Pro Forma Unaudited Consolidated Financial Statements
On September 30, 1998, Spectrum Medical Industries, Inc. (SMI), which
formerly owned 79.9% of Spectrum Laboratories, Inc. (the Company), was
merged into the Company. Under the terms of the merger, 98 shares of the
Company's common stock were issued to SMI shareholders for each share of SMI
common stock which resulted in 3,532,018 shares being issued to the
shareholders of SMI. The merger is a combination of two companies under
common control and has been accounted for in a manner similar to a pooling
of interests. The unaudited pro forma balance sheet is presented as if the
merger occurred on October 3, 1998 and the unaudited pro forma statements of
operations are presented as if the merger occurred as of the beginning of
the earliest period presented. Pro forma adjustments are made to the SMI
consolidated financial statements to present the pro forma Company financial
statements giving effect to the merger.
The pro forma unaudited financial statements have been prepared for
comparative purposes and are based upon the historical financial results of
SMI and the Company. These combined statements are not necessarily
indicative of the financial position or the results of operations that would
have occurred or that may be achieved in the future. The unaudited pro forma
financial statements should be read in conjunction with the historical
consolidated financial statements of SMI and the Company, including notes
thereto.
9
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Pro Forma Unaudited Consolidated Balance Sheets
As of October 3, 1998
(In thousands)
Pro Forma
SMI Pro Forma SLI
Consolidated Adjustments Consolidated
------------ ------------ ------------
ASSETS
Current Assets:
Cash and cash equivalents $ 611 $ $ 611
Accounts receivable 1,377 1,377
Inventories 1,674 1,674
Prepaid expenses 104 104
------------ ------------
Total current assets 3,766 3,766
Advances to principal shareholder 101 101
Property and equipment, net 2,245 2,245
Deferred income taxes 377 377
Goodwill 2,767 2,767
Other assets 252 252
------------ ------------ ------------
Total assets $ 9,508 $ - $ 9,508
============ ============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 920 $ $ 920
Accrued expenses and other current liabilities 822 822
Current portion of long-term debt 1,852 1,852
------------ ------------
Total current liabilities 3,594 3,594
Long-term debt, less current portion 1,061 1,061
Minority interest 3,199 (1,287)(1) 1,912
Shareholders' Equity:
Common stock 36 16 (2) 52
Additional paid-in capital 395 4,682 (2) 5,077
Retained earnings (accumulated deficit) 1,239 (3,411)(2) (2,172)
Unrealized loss on foreign currency translations (16) (16)
------------ ------------ ------------
Total shareholders' equity 1,654 1,287 2,941
------------ ------------ ------------
Total liabilities and shareholders' equity $ 9,508 $ - $ 9,508
============ ============ ============
See notes to pro forma unaudited consolidated financial statements.
10
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Pro Forma Unaudited Consolidated Statements of Operations
Nine Months Ended October 3, 1998
(In thousands, except per share amounts)
Pro Forma
SMI Pro Forma SLI
Consolidated Adjustments Consolidated
------------ ------------ ------------
Net sales $ 9,144 $ $ 9,144
Costs and expenses:
Cost of sales 4,697 4,697
Selling 1,378 1,378
General and administrative 2,413 2,413
Research and development 601 601
Other expense, primarily interest 218 218
------------ ------------
Total costs and expenses 9,307 9,307
------------ ------------
Loss before minority interest in loss of
subsidiaries and provision for income taxes (163) (163)
Minority interest in loss of subsidiaries 206 (189)(3) 17
------------ ------------ ------------
Income (loss) before provision for income taxes 43 (189) (146)
Provision for income taxes 27 27
------------ ------------ ------------
Net income (loss) $ 16 $ (189) $ (173)
============ ============ ============
Basic and diluted net income (loss)
per common share $ .44 $ (.04)
============ ============
Basic and diluted weighted average
common shares outstanding 36 4,824
============ ============
See notes to pro forma unaudited consolidated financial statements.
11
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Pro Forma Unaudited Consolidated Statements of Operations
Nine Months Ended September 30, 1997
(In thousands, except per share amounts)
Pro Forma
SMI Pro Forma SLI
Consolidated Adjustments Consolidated
------------ ------------ ------------
Net sales $ 10,224 $ $ 10,224
Costs and expenses:
Cost of sales 5,320 5,320
Selling 1,414 1,414
General and administrative 2,853 2,853
Research and development 667 667
Other expense, primarily interest 284 284
------------ ------------
Total costs and expenses 10,538 10,538
Gain on sale of product line 768 768
------------ ------------
Income before minority interest in (income) loss of
subsidiaries and provision for income taxes 454 454
Minority interest in (income) loss of subsidiaries (32) 43 (3) 11
------------ ------------ ------------
Income before provision for income taxes 422 43 465
Provision for income taxes 21 21
------------ ------------ ------------
Net income $ 401 $ 43 $ 444
============ ============ ============
Basic and diluted net income per common share $ 11.14 $ .09
============ ============
Weighted average common shares outstanding
Basic 36 4,815
============ ============
Diluted 36 4,837
============ ============
See notes to pro forma unaudited consolidated financial statements.
12
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Pro Forma Unaudited Consolidated Statements of Operations
Year Ended January 3, 1998
(In thousands, except per share amounts)
Pro Forma
SMI Pro Forma SLI
Consolidated Adjustments Consolidated
------------ ------------ ------------
Net sales $ 13,483 $ $ 13,483
Costs and expenses:
Cost of sales 6,750 6,750
Selling 1,899 1,899
General and administrative 3,988 3,988
Research and development 799 799
Other expense, primarily interest 358 358
------------ ------------
Total costs and expenses 13,794 13,794
Gain on sale of product lines 803 803
------------ ------------
Income before minority interest in loss of
subsidiaries and provision for income taxes 492 492
Minority interest in loss of subsidiaries 41 (15)(3) 26
------------ ------------ ------------
Income before provision for income taxes 533 (15) 518
Provision for income taxes 61 61
------------ ------------ ------------
Net income $ 472 $ (15) $ 457
============ ============ ============
Basic and diluted net income per common share $ 13.11 $ .09
============ ============
Weighted average common shares outstanding
Basic 36 4,815
============ ============
Diluted 36 4,836
============ ============
See notes to pro forma unaudited consolidated financial statements.
13
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Pro Forma Unaudited Consolidated Statements of Operations
Year Ended December 31, 1996
(In thousands, except per share amounts)
Pro Forma
SMI Pro Forma SLI
Consolidated Adjustments Consolidated
------------ ------------ ------------
Net sales $ 14,495 $ $ 14,495
Costs and expenses:
Cost of sales 7,572 7,572
Selling 1,993 1,993
General and administrative 3,266 3,266
Research and development 601 601
In-process research and development costs 1,700 1,700
Other expense, primarily interest 395 395
------------ ------------
Total costs and expenses 15,527 15,527
------------ ------------
Loss before minority interest in loss of
subsidiaries and provision for income taxes (1,032) (1,032)
Minority interest in loss of subsidiaries 369 (355)(3) 14
------------ ------------ ------------
Loss before provision for income taxes (663) (355) (1,018)
Provision for income taxes 82 82
------------ ------------ ------------
Net loss $ (745) $ (355) $ (1,100)
============ ============ ============
Basic and diluted net loss per common share $ (20.69) $ (.23)
============ ============
Basic and diluted weighted average
common shares outstanding 36 4,815
============ ============
See notes to pro forma unaudited consolidated financial statements.
14
Spectrum Medical Industries, Inc. (SMI) and Spectrum Laboratories, Inc. (SLI)
Notes to Pro Forma Unaudited Consolidated Financial Statements
1. SMI's financial statements reflect a minority interest in SLI and in
another partially-owned company, Spectrum Europe B.V. (SBV). SLI had the
remaining ownership interest in SBV and SLI's financial statements,
before the merger, reflected a minority interest in SBV. As a result of
the merger, these minority interests have been eliminated. The remaining
amount shown for minority interest primarily relates to the preferred
stock of SLI Acquisition Corp., a wholly-owned subsidiary of SLI.
2. Adjustment to SMI equity accounts to present SLI capital structure which
includes the issuance of 3,532,018 shares of SLI's common stock to the
shareholders of SMI in exchange for 36,041 shares of SMI's common stock.
3. Elimination of minority interest in net income/loss of SLI.
15
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SPECTRUM LABORATORIES, INC.
Date: February 1, 1999 By: /s/ F. Jesus Martinez
----------------------------
F. Jesus Martinez
President
16
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS FOR
THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996
AND INDEPENDENT AUDITORS' REPORT
17
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders
of Spectrum Medical Industries, Inc.:
We have audited the accompanying consolidated balance sheets of Spectrum Medical
Industries, Inc. and subsidiaries (the Company) as of January 3, 1998 and
December 31, 1996, and the related consolidated statements of operations,
shareholders' equity and cash flows for the years then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the consolidated financial position of Spectrum Medical
Industries, Inc. and subsidiaries as of January 3, 1998 and December 31, 1996,
and the results of their consolidated operations and their cash flows for the
years then ended, in conformity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
Costa Mesa, California
March 27, 1998, (except for Note 6, as to which
the dates were April 20 and April 29, 1998)
18
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
- --------------------------------------------------------------------------------
As of
--------------------------
January 3, December 31,
1998 1996
ASSETS (Note 1)
CURRENT ASSETS:
Cash and cash equivalents $ 1,134,523 $ 605,062
Accounts receivable, less allowance for doubtful accounts of
$198,078 in 1997 and $96,661 in 1996 1,599,097 1,910,385
Inventories, net (Note 3) 1,513,352 2,099,587
Prepaid expenses 165,952 174,684
Deferred income taxes (Note 5) 377,185 377,185
------------ ------------
Total current assets 4,790,109 5,166,903
ADVANCES TO PRINCIPAL SHAREHOLDER (Note 8) 559,687 537,777
PROPERTY AND EQUIPMENT (Note 4) 2,249,044 2,614,141
GOODWILL, net of accumulated amortization of $393,190 in 1997
and $227,945 in 1996 (Note 1) 2,891,078 3,056,323
OTHER ASSETS 168,594 202,634
------------ ------------
TOTAL ASSETS $10,658,512 $11,577,778
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit (Note 6) $ $ 237,297
Current portion of long-term debt (Note 6) 1,678,050 1,197,027
Accounts payable 1,020,047 1,194,346
Accrued expenses and other current liabilities 857,777 970,055
------------ ------------
Total current liabilities 3,555,874 3,598,725
LONG-TERM LIABILITIES:
Long-term debt (Note 6) 1,621,782 1,902,289
Long-term debt, affiliates (Note 6) 782,132 1,238,836
Other long-term liabilities 162,107
------------ ------------
Total long-term liabilities 2,403,914 3,303,232
MINORITY INTEREST (Note 1) 2,192,863 2,234,173
COMMITMENTS (Note 9)
SHAREHOLDERS' EQUITY:
Common stock, $1 par value; 100,000 shares authorized;
36,041 shares issued and outstanding 36,041 36,041
Additional paid-in capital 321,849 291,215
Retained earnings 2,186,956 2,152,310
Unrealized loss on foreign currency translations (38,985) (37,918)
------------ ------------
Total shareholders' equity 2,505,861 2,441,648
------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $10,658,512 $11,577,778
============ ============
See notes to consolidated financial statements.
19
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
- --------------------------------------------------------------------------------
YEARS ENDED
----------------------------
JANUARY 3, DECEMBER 31,
1998 1996
REVENUE (Note 10):
Net sales $ 13,483,095 $ 14,417,659
Other income - 77,425
------------- -------------
Total revenue 13,483,095 14,495,084
COSTS AND EXPENSES (Notes 6, 8, and 9):
Cost of sales 6,749,703 7,571,260
Selling 1,899,221 1,993,192
General and administrative 3,988,283 3,265,298
Research and development 798,673 601,003
In-process research and development costs (Note 2) - 1,700,000
Other expense, primarily interest 357,905 395,915
------------- -------------
Total costs and expenses 13,793,785 15,526,668
GAIN ON SALE OF PRODUCT LINES (Note 11) 803,059 -
------------- -------------
INCOME (LOSS) BEFORE MINORITY INTEREST IN LOSS OF
SUBSIDIARIES AND PROVISION FOR INCOME TAXES 492,369 (1,031,584)
MINORITY INTEREST IN LOSS OF SUBSIDIARIES (Note 1) 41,310 369,236
------------- -------------
INCOME (LOSS) BEFORE PROVISION FOR INCOME TAXES 533,679 (662,348)
PROVISION FOR INCOME TAXES 61,399 82,214
------------- -------------
NET INCOME (LOSS) $ 472,280 $ (744,562)
============= =============
See notes to consolidated financial statements.
20
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996
- --------------------------------------------------------------------------------
Cumulative
unrealized
Unrealized loss on
Common stock Additional gain on foreign
------------------ paid-in Retained investment currency
Shares Amount capital earnings securities translations Total
BALANCE, January 1, 1996 36,041 $36,041 $242,441 $3,593,646 $12,920 $(33,076) $3,851,972
Net loss (744,562) (744,562)
Unrealized investment losses,
net of tax (12,920) (12,920)
Foreign currency translation loss (4,842) (4,842)
Distributions to shareholders 48,774 (696,774) (648,000)
------- -------- --------- ----------- -------- --------- -----------
BALANCE, December 31, 1996 36,041 36,041 291,215 2,152,310 (37,918) 2,441,648
Net income 472,280 472,280
Foreign currency translation loss (1,067) (1,067)
Distributions to shareholders 30,634 (437,634) (407,000)
------- -------- --------- ----------- -------- --------- -----------
BALANCE, January 3, 1998 36,041 $36,041 $321,849 $2,186,956 $ - $(38,985) $2,505,861
======= ======== ========= =========== ======== ========= ===========
See notes to consolidated financial statements.
21
5
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------
YEARS ENDED
----------------------------
JANUARY 3, DECEMBER 31,
1998 1996
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 472,280 $ (744,562)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization 629,064 574,410
Gain on sale of product lines (803,059) -
Minority interest in loss of subsidiary (41,310) (369,236)
Deferred income taxes - 1,750
In-process research and development costs - 1,700,000
Change in assets and liabilities, net of effects of acquisitions:
Decrease in accounts receivable 311,288 56,120
Decrease in inventories 428,777 888,964
Decrease (increase) in prepaid expenses 8,732 (80,212)
Decrease (increase) in other assets 4,040 (1,130)
(Decrease) increase in accounts payable and accrued and
other liabilities (448,684) 432,789
Decrease in due to affiliates - (43,784)
Other (1,067) (17,762)
------------ ------------
Net cash provided by operating activities 560,061 2,397,347
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions of property and equipment (205,605) (456,102)
Decrease in investments, net - 44,704
Advances to principal shareholder (21,910) (67,546)
Proceeds from sale of product lines 1,097,400 -
------------ ------------
Net cash provided by (used in) investing activities 869,885 (478,944)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of long-term debt 4,076,000 200,000
Principal payments of long-term debt (4,569,485) (1,274,036)
Distributions to shareholders (407,000) (648,000)
------------ ------------
Net cash used in financing activities (900,485) (1,722,036)
------------ ------------
See notes to consolidated financial statements.
22
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
- --------------------------------------------------------------------------------
YEARS ENDED
----------------------------
JANUARY 3, DECEMBER 31,
1998 1996
INCREASE IN CASH AND CASH EQUIVALENTS $ 529,461 $ 196,367
CASH AND CASH EQUIVALENTS, beginning of year 605,062 408,695
------------ ------------
CASH AND CASH EQUIVALENTS, end of year $ 1,134,523 $ 605,062
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION -
Cash paid for:
Income taxes $ 83,528 $ 4,415
============ ============
Interest $ 454,384 $ 375,386
============ ============
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
The Company recorded unrealized losses of $12,920 on its investment portfolio
for the year ended December 31, 1996.
During 1996, SLI Acquisition Corporation acquired substantially all the net
assets of Cellco, Inc. In conjunction with the acquisition, liabilities were
assumed as follows:
Fair value of assets acquired $ 773,407
Intangibles 211,698
In-process research and development costs 1,700,000
Preferred stock issued in exchange for assets (Note 2) (2,000,000)
------------
Liabilities assumed $ 685,105
============
During fiscal years 1997 and 1996, a minority shareholder of SMI contributed
$30,634 and $48,774, respectively, in additional capital from the proceeds of
shareholder distributions.
See notes to consolidated financial statements.
23
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS AND BASIS OF PRESENTATION - The consolidated financial
statements include the accounts of Spectrum Medical Industries, Inc.
(Spectrum) and its majority-owned subsidiaries (collectively, the Company),
Spectrum Laboratories, Inc. (SLI), Spectrum Chromatography (Chromatography)
and Spectrum Europe B.V. (Spectrum B.V.). Spectrum Laboratories, Inc. (SLI)
and its wholly-owned subsidiaries, SLI Acquisition Corp. (SLIAC) (Note 2)
and Hydro-Med Products, Inc. (Hydro-Med), and its partially-owned
subsidiary, Spectrum B.V., are a separate public reporting entity. The
Company is engaged primarily in the manufacture and sale of medical
laboratory equipment and supplies and disposable products. All products are
for sale primarily to the pharmaceutical, biotechnology and medical
industries.
CHANGE IN FISCAL YEAR - Effective November 1997, the Company changed its
fiscal year end to the Saturday nearest December 31. The years ended
January 3, 1998 and December 31, 1996 both consist of approximately 52
weeks.
PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial
statements include the accounts of Spectrum and its majority-owned
subsidiaries, SLI, Chromatography and Spectrum B.V. All intercompany
balances and transactions have been eliminated in consolidation.
USE OF ESTIMATES - The preparation of the financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of rev enues and expenses during the reporting years. Actual
results could differ from those estimates.
CREDIT RISK - The Company sells its products nationally and intemationally,
primarily through distributors to medical equipment and medical supply
companies. The Company performs ongoing credit evaluations of its customers
and generally does not require collateral. The Company maintains reserves
for potential credit losses.
CASH AND CASH EQUIVALENTS - Cash and cash equivalents are comprised of cash
in banks demand deposit accounts with original maturities of 90 days or
less.
INVESTMENTS - The Company accounts for its investments under the provisions
of Statement of Financial Accounting Standards (SFAS) No. 115, ACCOUNTING
FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY SECURITIES. Any unrealized gains
or losses related to available for sale securities is recorded as a
component of shareholders' equity, net of tax.
INVENTORIES - Inventories are stated at the lower of cost (using the
first-in, first-out method) or market value.
24
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
PROPERTY AND EQUIPMENT - Furniture, equipment and leasehold improvements
are stated at cost, net of accumulated depreciation and amortization.
Depreciation of equipment is provided using the straight-line method over
the estimated useful lives (generally five years) of the respective assets.
Leasehold improvements are amortized on a straight-line basis over the
lesser of the lease term or the estimated useful life of the asset.
GOODWILL - Goodwill represents the excess of the purchase price over the
fair value of net assets acquired from the Cellco Incorporated (Cellco)
(Note 2) acquisition during 1996 and the Microgon acquisition during 1995.
Goodwill is being amortized on a straight-line basis over a 15 and 20 year
period for Cellco and Microgon, respectively. The Company measures the
recoverability of goodwill annually by comparing undiscounted expected
future cash flows from the related operations to the carrying value of
goodwill.
LONG-LIVED ASSETS - The Company accounts for the impairment and disposition
of long-lived assets in accordance with SFAS No. 121, ACCOUNTING FOR THE
IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED
OF. SFAS No. 121 requires impairnent losses to be recognized for long-lived
assets used in operations when indicators of impairment are present and the
undiscounted cash flows are not sufficient to recover the assets' carrying
amount. There was no impairment of the value of such assets for the years
ended January 3, 1998 and December 31, 1996.
INCOME TAXES - Spectrum is a subchapter S corporation. Its federal and
state income taxes are the responsibility of the shareholders of the
Company. SLI is a public corporation and is subject to both federal and
state income taxes.
The Company accounts for income taxes under the provision of SFAS No. 109,
ACCOUNTING FOR INCOME TAXES. This statement requires the recognition of
deferred tax assets and liabilities for the future consequences of events
that have been recognized in the Company's financial statements or tax
returns. Measurement of the deferred items is based on enacted tax laws. In
the event the future consequences of differences between financial
reporting bases and tax bases of the Company's assets and liabilities
result in a deferred tax asset, SFAS No. 109 requires an evaluation of the
probability of being able to realize the future benefits indicated by such
asset. A valuation allowance related to a deferred tax asset is recorded
when it is more likely than not that some portion or all of the deferred
tax asset will not be realized.
MINORITY INTEREST - The Company records the minority interest of its
partially-owned subsidiaries based on minority shareholders' interest in
each subsidiary. At January 3, 1998, the cumulative minority interest in
SLI (21%), Chromatography (21%) and SLIAC (Note 2) was $263,960, $(71,097)
(deficit) and $2,000,000, respectively.
REVENUE RECOGNITION - The Company records revenue at the time the related
products are shipped.
25
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
TRANSLATION OF FOREIGN CURRENCIES - Assets and liabilities of Spectrum B.V.
are translated into U.S. dollars at year-end rates of exchange, and income
and expenses are translated at average rates during the respective years.
The functional currency of this subsidiary is the guilder; therefore,
translation gains or losses are recorded as a separate component of
shareholders' equity.
FAIR VALUE OF FINANCIAL INSTRUMENTS - Management believes that the carrying
amount of cash and cash equivalents, accounts receivable, accounts
receivable due from affiliates, accounts payable and accrued expenses
approximates fair value because of the short maturity of these financial
instruments. A portion of long-term debt bears interest at a rate indexed
to the prime rate, and the remaining long-term debt and notes payable to
affiliated parties bear interest at a rate comparable to prime at January
3, 1998; therefore, management believes the carrying amount of the
outstanding borrowings at January 3, 1998 approximates fair market value.
ACCOUNTING FOR STOCK-BASED COMPENSATION - SFAS No. 123, ACCOUNTING FOR
STOCK-BASED COMPENSATION, defines a fair value method of accounting for
stock options and other equity instruments. Under the fair value method,
compensation cost is measured at the grant date based on the fair value of
the award and is recognized over the service period, which is usually the
vesting period.
The Company has elected to continue to account for such transactions under
Accounting Principles Board (APB) Opinion No. 25, ACCOUNTING FOR STOCK
ISSUED TO EMPLOYEES, but is required to disclose in a note to the financial
statements pro forma net loss and loss per share as if the Company had
applied the fair value method of accounting (Note 7).
NEW ACCOUNTING PRONOUNCEMENTS - In June 1997, the Financial Accounting
Standards Board (FASB) issued SFAS No. 130, REPORTING COMPREHENSIVE INCOME,
which is effective for annual and interim periods beginning after December
15, 1997. This statement requires that all items that are required to be
recognized under accounting standards as comprehensive income be reported
in a financial statement that is displayed with the same prominence as
other financial statements.
In June 1997, the FASB issued SFAS No. 131. DISCLOSURES ABOUT SEGMENTS OF
AN ENTERPRISE AND RELATED INFORMATION, which is effective for annual and
interim periods beginning after December 15, 1997. This statement
establishes standards for the method that public entities report
information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. It also
establishes standards for related disclosures about product and services,
geographical areas, and major customers.
In February 1998, the FASB issued SFAS No. 132, EMPLOYERS' DISCLOSURE ABOUT
PENSIONS AND OTHER POSTRETIREMENT BENEFITS, which is effective for annual
and interim, periods beginning after December 15, 1997. This statement
standardized the disclosure requirements for pensions and other
26
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
postretirement benefits to the extent practicable, requires additional
information on changes in the benefit obligations and fair values of plan
assets that will facilitate financial analysis and eliminate certain
disclosures that are no longer as useful as they were under previous
statements.
The Company is reviewing the impact of these pronouncements on its
financial statements.
RECLASSIFICATIONS - Certain December 31, 1996 balances have been
reclassified to conform with the January 3, 1998 presentation.
2. ACQUISITIONS
On October 1, 1996, SLIAC entered into an Asset Purchase Agreement with
Cellco, a Delaware corporation, and acquired the operating assets and
liabilities of Cellco in exchange for 10,000 shares of SLIAC preferred
stock valued at $2,000,000. The acquisition was recorded as a purchase for
accounting purposes and the purchase price of $2,000,000 was allocated to
assets acquired of $773,407, liabilities assumed of $685,105, intangible
assets of $211,698, and purchased research and development costs of
$1,700,000. The preferred shareholders of SLIAC have the right to put their
stock to SLI at any time from October 1, 2000 to September 30, 2001 for a
price of $2,000,000. In the event the Company is combined with SMI and the
combined company completes an underwritten offering, the preferred
shareholders have the right to exchange such stock for 7% of the newly
combined company. The preferred shares are nonvoting and have preference
over common shareholders as to dividends and liquidation.
The following unaudited consolidated pro forma results of operations for
the year ended December 3 1, 1996 assume that the acquisition of the
operations of Cellco occurred at the beginning of fiscal year 1996. These
unaudited consolidated pro forma results do not purport to be indicative of
the results which would have occurred had the acquisition been made as of
that date or of results which may occur in the future.
1996
Net revenues $ 9,571,992
============
Net loss $(2,610,540)
============
27
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
3. INVENTORIES
Inventories consist of the following at January 3, 1998 and December 31,
1996:
1998 1996
Raw materials $1,292,500 $1,294,405
Work-in-process 43,488 73,033
Finished goods 637,255 1,369,705
----------- -----------
1,973,243 2,737,143
Reserve for obsolescence (459,891) (637,556)
----------- -----------
Total $1,513,352 $2,099,587
=========== ===========
4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following at January 3, 1998 and
December 31, 1996:
1998 1996
Machinery and equipment $4,312,668 $4,199,718
Tooling 435,677 457,046
Office furniture and equipment 1,540,670 1,523,479
Art works, at cost 974,441 974,441
Leasehold improvements 1,335,272 1,579,122
----------- -----------
8,598,728 8,733,806
Less accumulated depreciation and amortization (6,349,684) (6,119,665)
----------- -----------
Total $2,249,044 $2,614,141
=========== ===========
28
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31,1996 (CONTINUED)
- --------------------------------------------------------------------------------
5. INCOME TAXES
The Company's income tax provision consists of the following:
1997 1996
Current:
Federal $25,000 $ -
State 44,520 58,920
Foreign (8,121) 21,544
-------- --------
61,399 80,464
Deferred:
Federal
State 1,750
-------- --------
1,750
-------- --------
$61,399 $82,214
======== ========
The reported provision for income taxes differs from the amount computed by
applying the statutory federal income tax rate of 35% to the consolidated
income before provision for income taxes as follows:
1997 1996
Statutory federal income tax (benefit) provision $ 186,787 $(260,597)
Goodwill amortization 54,784 54,784
Nondeductible meals and entertainment 5,013 2,684
State income taxes, net 32,991 46,212
S corporation income exclusion (226,357) (311,801)
Valuation allowance 53,852 710,837
Tax rate benefit (39,902) -
Minority interest (11,291) (168,791)
Other 5,522 8,886
---------- ----------
Income tax provision $ 61,399 $ 82,214
========== ==========
29
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
The components of the Company's net deferred income tax asset as of January
3, 1998 and December 31, 1996 are as follows:
1998 1996
Deferred state taxes $ 10,785 $ (5,759)
Depreciation (19,877) (31,475)
Research and development expenses 627,704 752,185
Reserves not currently deductible 211,786 166,503
Operating loss carryforwards 3,530,624 3,618,481
Other 88,691 74,979
------------ ------------
4,449,713 4,574,914
Valuation allowance (4,072,528) (4,197,729)
------------ ------------
Net deferred tax asset $ 377,185 $ 377,185
============ ============
The Company's valuation allowance of $4,072,528 at January 3, 1998 results
from the uncertainty of the Company's ability to utilize net operating loss
and tax credit carryforwards to reduce future taxes. The valuation
allowance decreased $125,201 during 1997.
At January 3, 1998, the Company had net operating loss carryforwards for
federal income tax purposes of $9,733,699 ($8,100,000 available to offset
income of Microgon only), which expire at various dates from 1998 through
2009. The utilization of Microgon's $8,100,000 federal net operating loss
is limited to approximately $298,000 of Microgon income annually. Any
unused net operating loss is carried forward. As a result of the
limitation, it is possible that more than $5,000,000 of the Microgon loss
may expire without utilization. The Company has an approximate $3,500,000
state net operating loss canyforward, which expires at various dates
beginning in 1998.
30
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
6. LONG-TERM DEBT
Long-term debt consists of the following at January 3, 1998 and December
31, 1996:
1998 1996
Note payable to bank, with a maturity date of March 1, 2002,
collateralized by substantially all of the assets of the Company,
guaranteed by the majority shareholder, due in monthly
principal installments of $60,000, plus an installment of
$678,621 due May 1, 1998. Interest is payable monthly at a
rate of 9.14% subject to the bank's yield maintenance
agreement (9.14% at January 3, 1998) $3,000,000 $ -
Note payable to bank with a maturity date of May 1, 1998,
collateralized by substantially all of the assets of the Company,
guaranteed by the majority shareholder. Interest is payable
monthly at a rate of prime plus .25% (8.75% at
January 3, 1998) 161,000 -
Note payable to bank, collateralized by substantially all of the
assets of the Company, guaranteed by the majority
shareholder, due in monthly principal installments of $29,762
through November 29, 2000, plus a final installment equal to
the entire unpaid principal balance and accrued interest on the
termination date. Interest is payable monthly at the bank's
prime rate, plus .75% per annum - 1,942,857
9% subordinated acquisition notes payable, guaranteed
by the majority shareholder, principal and accrued interest
due on January 1, 1997 219,076
Note payable to the bank, collateralized by substantially all of
the assets of the Company, guaranteed by the majority
shareholder, due in monthly installments of $36,667 plus
interest through 1998. Interest is payable monthly at the
bank's prime rate, plus .75% per annum 689,916
31
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
1998 1996
Noninterest-bearing notes payable due on various dates
through January 31, 1999 $ 28,500 $ 81,749
Obligation under sales-leaseback transaction 55,540 99,054
----------- -----------
3,245,040 3,032,652
Less current portion (1,623,258) (1,130,363)
----------- -----------
Total $1,621,782 $1,902,289
=========== ===========
Aggregate maturities of long-term debt as of January 3, 1998 are as
follows:
1998 $1,623,258
1999 740,403
2000 720,000
2001 161,379
-----------
$3,245,040
===========
The note payable to the bank includes certain financial covenants and
certain restrictions, including prohibiting the payment of dividends
without prior approval of the bank. At January 3, 1998, the Company was in
violation of certain debt covenants and on April 20, 1998, obtained a
waiver from the bank. Provisions of the Company's loan agreement with the
bank require principal and interest payments of approximately $1,200,000
due May 1,1998. On April 29, 1998, the Company obtained an extension to
July 1, 1998. The notes payable are collateralized by substantially all of
the assets of the Company and are guaranteed by the majority shareholder.
On April 1,1995, the Company sold certain items of its laboratory equipment
for $159,912. Concurrently, the Company leased the equipment back for a
period of 48 months at a monthly rental of $4,311. The Company has the
option to repurchase the equipment at the end of the lease for
consideration equal to the greater of 10% of the sale price or the fair
market value of the equipment at that time, as determined by an independent
appraiser. As a result, the transaction has been recorded as a financing
transaction rather than as a sale, and the equipment and related accounts
continue to be recognized in the accompanying financial statements.
32
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
The future lease payments under the related lease agreement are as follows:
1998 $ 51,732
1999 8,622
---------
60,354
Less amount representing interest (4,814)
---------
$55,540
=========
The implicit interest rate under the related lease agreement is 14%.
Long-term debt - affiliates consists of the following at January 3, 1998:
8.75% note payable to shareholder, due in annual installments
of $100,000, beginning January 1, 2001, with final payment of
$52,570 due on January 1, 2006 $552,750
Advances from majority shareholder, due in monthly installments
of $4,566. Interest is payable monthly at 9% 284,174
---------
836,924
Less current portion (54,792)
---------
Total $782,132
=========
Interest expense to affiliates amounted to $64,072 and $119,495 in 1997 and
1996, respectively.
During fiscal 1996, the Company had a line of credit agreement with a bank
which was terminated during 1997.
7. STOCK OPTION PLAN
SLI has a Stock Option Plan (the Plan) providing for options to purchase up
to 2,000,000 shares of its common stock. The Plan provides for the granting
of options to qualified employees and consultants of SLI at prices that are
not less than 85% of the fair market value of the shares as of the date of
grant. The options become exercisable as specified in the Plan, expire not
more than ten years from the date of grant, and become exercisable ratably
over a four-year period (25% per year). No options have been exercised to
date.
33
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
Option activity under the Plan is as follows:
WEIGHTED
AVERAGE
NUMBER OF EXERCISE
SHARES PRICE
OUTSTANDING, January 1, 1996 639,000 $.32
Granted (weighted average fair value of $.23) 282,000 .30
---------
OUTSTANDING, December 31, 1996 921,000 .32
Granted (weighted average fair value of $.ll) 378,000 .21
Terminated (324,000) .26
---------
OUTSTANDING, January 3, 1998 975,000 .29
=========
At January 3, 1998, outstanding options had a range of exercise prices from
$.19 to $.75 per share and weighted average contractual life of 8.3 years.
At January 3, 1998, 310,250 options were exercisable with a weighted
average exercise price of $.32 per share. At January 3, 1998, 1,025,000
shares were available for future grants under the plan.
SFAS No. 123 requires the disclosure of pro forma net income and earnings
per share had the SLI adopted the fair value method as of the beginning of
fiscal year 1995. Under SFAS No. 123, the fair value of stock-based awards
to employees is calculated through the use of option-pricing models, even
though such models were developed to estimate the fair value of freely
tradable, fully transferable options with vesting restrictions, which
significantly differ from the SLI's stock option awards. These models also
require subjective assumptions, including future stock price volatility and
expected time to exercise, which greatly affect the calculated values.
SLI's calculations were made using the BlackScholes option-pricing model
with the following weighted average assumptions: expected life, 48 months
following complete vesting; stock volatility, 92% in 1997 and 108% in 1996;
risk-free interest rate, 5.8% in 1997 and 6% in 1996; and no dividends
during the expected term. SLI's calculations are based on a single-option
valuation approach, and forfeitures are recognized as they occur. If the
computed fair values of the 1997 and 1996 awards had been amortized to
expense over the vesting period of the awards, pro forma net loss of SLI
would have been $139,599 ($.01 per basic and diluted share) in 1997 and
$1,697,000 ($.13 per basic and diluted share) in 1996.
34
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
8. RELATED-PARTY TRANSACTIONS
ADVANCES TO PRINCIPAL SHAREHOLDER - Advances to the principal shareholder
consist of unsecured cash advances. These advances bear interest at 4%.
Interest income of $21,909 and $22,419 was earned on the advances during
1997 and 1996, respectively. These advances have been classified as
long-term, as repayment during 1998 is not expected.
ROYALTY AGREEMENT - Spectrum is committed under a royalty agreement to pay
the principal shareholder royalties of 7% of the net sales of certain
products, as defined through the life of the defined products. During 1997
and 1996, the Company incurred royalty expenses of $334,960 and $300,000,
respectively, under this agreement.
CONSULTING AGREEMENT - SMI is committed under a consulting agreement to pay
the principal shareholder consulting fees for services rendered in
connection with product design and development. During 1997 and 1996, the
Company incurred expenses of $282,000, each year, under this agreement.
LEASES - The Company leases office, manufacturing and warehouse facilities
from the principal shareholder under operating leases which expire on
various dates through 2008. Rental expense under these leases was $314,785
and $343,680 in 1997 and 1996, respectively. Certain leases are subject to
escalation clauses determined on the basis of changes in the Consumer Price
Index.
9. COMMITMENTS
The Company is obligated under the terms of various operating lease
agreements which cover the manufacturing and office facilities. The lease
agreements provide for payment of related taxes, maintenance and repair
costs. Minimum future rental payments under these operating lease
agreements are as follows:
1998 $ 626,700
1999 339,500
2000 340,100
2001 340,700
2002 341,300
Thereafter 1,870,700
-----------
$3,859,000
===========
Included in operating lease commitments above is $3,442,400 related to
facilities owned by the majority shareholder. These leases expire on
various dates ending in 2008.
35
SPECTRUM MEDICAL INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED JANUARY 3, 1998 AND DECEMBER 31, 1996 (CONTINUED)
- --------------------------------------------------------------------------------
Rental expenses under operating leases were $651,700 and $529,860 for the
years ended January 3, 1998 and December 31, 1996, respectively.
10. FOREIGN SALES
Sales to customers in foreign countries, primarily in Europe, Asia and
Canada, amounted to $3,158,000 and $2,817,000 in 1997 and 1996.
respectively.
11. GAIN ON SALE OF PRODUCT LINES
In March 1997, the Company sold its microbiological sampling and transports
product line, including related inventory and production equipment, for
approximately $969,000, resulting in a gain of $768,488. In November 1997,
the Company sold its microscope drapes product line, including related
inventory and production equipment, for approximately $128,000, resulting
in again of $34,571.
12. PROPOSED MERGER
The Company is currently investigating the possibility of a merger with
SLI. No definitive agreement has been reached as of March 27, 1998.
36